Hedging strategies to manage commodity price risk
Price fluctuations in commodity markets can have a significant impact on potential profits, both for those who use and produce that commodity. Commodity prices, which are based on the supply and demand of a market, are very volatile and it is nearly impossible to predict exactly which way a price will move in the future. Companies that are impacted by unexpected commodity price movements should consider managing these risks and minimizing their effects through the use of financial market instruments. The purpose of this thesis is to use risk management strategies and derivatives to hedge risks faced by an Icelandic manufacturer that uses gold as an input. Fluctuating gold prices and foreign exchange rates are causing changes in cash flows and affecting the company’s profitability. To reduce these risks, the company can hedge its exposure through the use of derivatives, such as futures contracts, forward contracts, options and swaps. Historical data on gold prices and foreign exchange rates are used to predict future prices and to calculate Value at Risk. Black Scholes model and Monte Carlo simulation are used for option pricing. In conclusion, risk management strategies and derivatives reduce price uncertainty and stabilize future cash flow. But considerable risk can also accompany the use of risk management, whereby the price of the underlying asset can develop in a different direction to what was predicted.
Fjármálaverkfræði, Meistaraprófsritgerðir, Verðþróun, Áhættustjórnun, Tækni- og verkfræðideild, Financial engineering, Risk management, Economic development, School of Science and Engineering
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